Misonix, Inc. and Subsidiaries
See Accompanying Notes to Consolidated Financial Statements.
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
1. Basis of Presentation, Organization and Business and Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements of MISONIX, INC. ("Misonix" or the "Company") include the accounts of Misonix, its 100% owned subsidiary, Labcaire Systems, Ltd. ("Labcaire"), its 90% owned subsidiary, Acoustic Marketing Research, Inc. doing business as Sonora Medical Systems, Inc. ("Sonora"), and its 100% owned subsidiary, Misonix, Ltd. As of March 31, 2004, the Company consolidated its 100% owned subsidiary Hearing Innovations, Inc. ("Hearing Innovations") in accordance with FIN 46, Variable Interest Entities, as the Company determined it was a variable interest (See Note 2). Hearing Innovations filed for relief under Chapter 11 of the U.S. Bankruptcy Code during fiscal 2005 and as part of the Bankruptcy Plan the Company acquired 100% of the outstanding common stock of Hearing Innovations. Prior to March 31, 2004, the Company reported its investment in Hearing Innovations using the equity method of accounting. The Company's investment in Focus Surgery, Inc. ("Focus") (See Note 2) is reported using the equity method of accounting. All significant intercompany balances and transactions have been eliminated.
Organization and Business
Misonix was incorporated under the laws of the State of New York on July 31, 1967 and its principal revenue producing activities, from 1967 to date, have been the manufacture and distribution of proprietary ultrasound equipment for scientific and industrial purposes and environmental control equipment for the abatement of air pollution. Misonix's products are sold worldwide. In October 1996, the Company entered into licensing agreements to further develop one of its medical devices (see Note 13).
Labcaire, which began operations in February 1992, is located in the United Kingdom, and its core business is the innovation, design, manufacture, and marketing of air handling systems for the protection of personnel, products and the environment from airborne hazards. Net sales, net income and total assets related to Labcaire as of and for the years ended June 30, 2005, 2004 and 2003 were approximately $11,842,000, $172,000 and $11,335,000, respectively; $10,530,000, $160,000 and $9,414,000, respectively; $9,950,000, $305,000 and $8,053,000, respectively.
The following is an analysis of assets related to Labcaire:
| | | | | | | | | | | | | | |
| | | June 30, |
| | | | 2005 | | | | 2004 | | | | 2003 | |
| Current assets | | $ | 7,124,000 | | | $ | 5,788,000 | | | $ | 5,421,000 | |
| Long – lived assets | | | 4,211,000 | | | | 3,626,000 | | | | 2,632,000 | |
| Total assets | | $ | 11,335,000 | | | $ | 9,414,000 | | | $ | 8,053,000 | |
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Sonora, which was acquired in November 1999 and is located in Longmont, Colorado, is an ISO 9001 certified refurbisher of high-performance ultrasound systems and replacement transducers for the medical diagnostic ultrasound industry. Net sales, net income and total assets related to Sonora as of and for the years ended June 30, 2005, 2004 and 2003 were approximately $11,067,000, $131,000 and $7,241,000, respectively; $9,126,000, $574,000 and $5,376,000, respectively; $8,615,000, $877,000 and $5,181,000, respectively.
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
Hearing Innovations is located in Farmingdale, New York. Net sales, net (loss) income and total assets related to Hearing Innovations as of and for the twelve months ended June 30, 2005 and the three months ended June 30, 2004 were approximately $0, $(112,000) and $101,000, respectively, and $4,000, $1,000 and $100,000, respectively.
Misonix, Ltd. was incorporated in the United Kingdom on July 19, 1993 and its operations since inception have been insignificant to the Company. It is presently dormant.
Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. There were no cash equivalents at June 30, 2005 and 2004.
Major Customers and Concentration of Credit Risk
The Company's policy is to review its customers' financial condition prior to extending credit and, generally, collateral is not required. Included in sales of medical devices, sales to United States Surgical Corporation ("USS") in 2005, 2004 and 2003 were approximately $5,778,000, $7,198,000 and $6,205,000, respectively. Total royalties from USS related to their sales of this device were approximately $940,000, $1,402,000 and $664,000 during the fiscal years ended June 30, 2005, 2004 and 2003, respectively. Accounts receivable from this customer were approximately $1,247,000 and $1,555,000 at June 30, 2005 and 2004, respectively. At June 30, 2005 and 2004, the Company's accounts receivable with customers outside the United States were approximately $5,656,000 and $3,301,000, respectively, of which $3,781,000 and $2,345,000, respectively, related to its Labcaire operations. The Company utilizes letters of credit on foreign or export sales where appropriate. Credit losses relating to both domestic and foreign customers have historically been minimal and within management's expectations.
Inventories
Inventories are stated at the lower of cost (first–in, first–out) or market and consist of raw materials, work-in-process and finished goods. Management evaluates the need to record adjustments for impairments of inventory on a quarterly basis. The Company's policy is to assess the valuation of all inventories, including raw materials, work-in-process and finished goods. Inventory items used for demonstration purposes, rentals or on consignment are classified in property, plant and equipment.
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. Depreciation of property and equipment is provided using the straight-line method over estimated useful lives ranging from 1 to 5 years. Depreciation of the Labcaire building is provided using the straight-line method over the estimated useful life of 50 years. Leasehold improvements are amortized over the life of the lease or the useful life of the related asset, whichever is shorter. The Company's policy is to periodically evaluate the appropriateness of the lives assigned to property, plant and equipment and to adjust if necessary. Inventory items included in property, plant and equipment are depreciated using the straight line method over estimated useful lives of 2 to 3 years.
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
Fair Value of Financial Instruments
The book values of cash, accounts receivable, accounts payable, and accrued liabilities approximate their fair values principally because of the short-term nature of these instruments. The carrying value of the Company's debt approximates its fair value due to variable interest rates based on prime or other similar benchmark rates.
Revenue Recognition
The Company records revenue upon shipment for products shipped F.O.B. shipping point. Products shipped F.O.B. destination point are recorded as revenue when received at the point of destination. Shipments under agreements with distributors are not subject to return, and payment for these shipments is not contingent on sales by the distributor. The Company recognizes revenue on shipments to distributors in the same manner as with other customers. Fees from exclusive license agreements are recognized ratably over the terms of the respective agreements. Service contracts and royalty income is recognized when earned.
Long-Lived Assets
The carrying values of intangible and other long-lived assets, excluding goodwill, are periodically reviewed to determine if any impairment indicators are present. If it is determined that such indicators are present and the review indicates that the assets will not be fully recoverable, based on undiscounted estimated cash flows over the remaining amortization and depreciation period, their carrying values are reduced to estimated fair value. Impairment indicators include, among other conditions, cash flow deficits, an historic or anticipated decline in revenue or operating profit, adverse legal or regulatory developments, accumulation of costs significantly in excess of amounts originally expected to acquire the asset and a material decrease in the fair value of some or all of the assets. Assets are grouped at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows generated by other asset groups. No such impairment existed at June 30, 2005.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of the net assets acquired in connection with the Company's acquisitions of the common stock of Labcaire, 90% of the common stock of Sonora and the acquisitions of Fibra Sonics, Inc. ("Fibra Sonics"), Sonic Technologies Laboratory Services ("Sonic Technologies") and CraMar Technologies, Inc. ("CraMar").
In July 2001, the FASB issued Statement of Financial Accounting Standards ("SFAS") Nos. 141 ("SFAS 141") and 142 ("SFAS 142"), "Business Combinations" and "Goodwill and Other Intangible Assets," respectively. SFAS 141 replaced Accounting Principles Board ("APB") Opinion 16 "Business Combinations" and requires the use of the purchase method for all business combinations initiated after June 30, 2001. SFAS 142 requires goodwill and intangible assets with indefinite useful lives to no longer be amortized, but instead be tested for impairment at least annually and whenever events or circumstances occur that indicate goodwill might be impaired. With the adoption of SFAS 142, as of July 1, 2001, the
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
Company reassessed the useful lives and residual values of all acquired intangible assets to make any necessary amortization period adjustments. Based on that assessment, only goodwill was determined to have an indefinite useful life and no adjustments were made to the amortization period or residual values of other intangible assets. The Company completed its annual goodwill impairment tests for fiscal 2005 and 2004 in the respective fourth quarter. There were no indicators that goodwill recorded was impaired.
Other Assets
The cost of acquiring or processing patents, trademarks, and other intellectual properties is capitalized at cost. This amount is being amortized using the straight-line method over the estimated useful lives of the underlying assets, which is approximately 17 years.
Income Taxes
Income taxes are accounted for in accordance with SFAS No. 109, "Accounting for Income Taxes" ("SFAS No. 109"). Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
Net Income Per Share
Basic income per common share excludes any dilution. It is based upon the weighted average number of common shares outstanding during the period. Dilutive earnings per share reflects the potential dilution that would occur if options to purchase common stock were exercised. The following table sets forth the reconciliation of weighted average shares outstanding and diluted weighted average shares outstanding:
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| | | | 2005 | | | | 2004 | | | | 2003 | |
Weighted average common shares
outstanding | | | 6,788,341 | | | | 6,667,615 | | | | 6,478,138 | |
| Dilutive effect of stock options | | | 195,358 | | | | 182,230 | | | | 145,605 | |
| Diluted weighted average common shares outstanding | | | 6,983,699 | | | | 6,849,845 | | | | 6,623,743 | |
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Employee stock options covering 838,195, 25,000 and 1,375,161 shares, respectively, for the years ended June 30, 2005, 2004 and 2003 were not included in the diluted net income per share calculation because their effect would have been anti-dilutive.
Comprehensive Income
The components of the Company's comprehensive income are net income and foreign currency translation adjustments. The foreign currency translation adjustments included in comprehensive income
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
have not been tax effected as investments in foreign affiliates are deemed to be permanent. Total comprehensive income was $847,440 and $1,995,596 for the years ended June 30, 2005 and 2004, respectively.
Foreign Currency Translation
The Company follows the policies prescribed by FASB Statement No. 52, "Foreign Currency Translation," for translation of the financial results of its foreign subsidiaries. Accordingly, assets and liabilities are translated at the foreign currency exchange rate in effect at the balance sheet date. Resulting translation adjustments due to fluctuations in the exchange rates are recorded as other comprehensive income. Results of operations are translated using the weighted average of the prevailing foreign currency rates during the fiscal year. Stockholders' equity accounts are translated at historical exchange rates. Gains and losses on foreign currency transactions are recorded in other income and expense.
Research and Development
All research and development expenses are expensed as incurred and are included in operating expenses.
Advertising Expense
The cost of advertising is expensed as of the first showing. The Company incurred approximately $524,000, $474,000 and $441,000 in advertising costs during fiscal 2005, 2004 and 2003, respectively.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and judgments that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Shipping and Handling Costs
The Company includes all shipping and handling income and expenses incurred as a component of selling expenses. Shipping and handling income for the years ended June 30, 2005, 2004 and 2003 was approximately $476,000, $412,000 and $228,000, respectively. Shipping and handling expenses for the years ended June 30, 2005, 2004 and 2003 were approximately $607,000, $555,000 and $356,000, respectively.
Stock-Based Compensation
The Company accounts for stock-based employee and outside directors' compensation under APB Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations. The Company has adopted the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation" and SFAS No. 148, "Accounting for Stock-Based Compensation – Transition and Disclosure", which
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
was released in December 2002 as an amendment of SFAS No. 123. The following table illustrates the effect on net income and net income per share as if the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation:
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| | | | 2005 | | | | 2004 | | | | 2003 | |
| Net income – As reported: | | $ | 935,705 | | | $ | 1,718,945 | | | $ | 967,575 | |
Stock based compensation
determined under SFAS 123 | | | (1,163,462 | ) | | | (635,024 | ) | | | (369,601 | ) |
| Net (loss) income – Pro forma: | | $ | (227,757 | ) | | $ | 1,083,921 | | | $ | 597,974 | |
Net income (loss) per share –
Basic: | | | | | | | | | | | | |
| As reported | | $ | .14 | | | $ | .26 | | | $ | ..15 | |
| Pro forma | | $ | (.03 | ) | | $ | ..16 | | | $ | .09 | |
Net income (loss) per share –
Diluted: | | | | | | | | | | | | |
| As reported | | $ | .13 | | | $ | .25 | | | $ | ..15 | |
| Pro forma | | $ | (.03 | ) | | $ | ..16 | | | $ | .09 | |
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The weighted average fair value at date of grant for options granted during the years ended June 30, 2005, 2004 and 2003 was $3.56, $2.64 and $3.02 per option, respectively. The fair value of options at date of grant was estimated using the Black-Scholes option-pricing model utilizing the following assumptions:
During fiscal 2005, the Company accelerated the vesting of all unvested stock options awarded to employees and officers which had an exercise price greater than $8.00 per share. Options to purchase 101,000 shares became exercisable immediately as a result of the vesting acceleration. The Company sought to balance the benefit of eliminating the requirement to recognize compensation expense in future periods with the need to continue to motivate employee performance through previously issued, but currently unvested, stock option grants. With those factors being considered, management determined it to be appropriate to accelerate only those unvested stock options where the strike price was reasonably in excess of the Company's then current stock price.
The effect of the acceleration was an increase in pro-forma stock based employee compensation expense for the year ended June 30, 2005 of approximately $300,000, net of taxes ($.04 per basic and diluted share). As the Company will be adopting SFAS 123R, "Share-Based Payment," in the first quarter of fiscal 2006, the decision to accelerate the identified stock options will reduce the Company's share-based compensation, net of taxes by approximately $137,000 in fiscal 2006 and fiscal 2007 and $16,000 in fiscal 2008.
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
| | | | | | | | | | | | | | |
| | | 2005 | | 2004 | | 2003 |
| Risk-free interest rates | | 3.50% to
4.04% | | 2.50% to
2.58% | | 2.58% to
3.08% |
| Expected option life in years | | 5 | | 5 | | 5 |
| Expected stock price volatility | | 73 - 100% | | 100% | | 59% |
| Expected dividend yield | | -0- | | -0- | | -0- |
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Reclassifications
The accompanying consolidated financial statements for the prior fiscal years contain certain reclassifications to conform to the current year presentation. Equipment held for rental, consignment and demonstration purposes totaling $1,350,000 (net of depreciation of $465,000) has been reclassified from inventory to property plant and equipment in the June 30, 2004 financial statements. The Consolidated Statements of cash flows for the years ended June 30, 2004 and 2003 have been restated to conform with the current year.
Recent Accounting Pronouncement
In December 2004, the Financial Accounting Standards Board issued SFAS No. 123 (Revised 2004), "Share-Based Payment" ("SFAS 123(R)"). This Statement revises SFAS No. 123 by eliminating the option to account for employee stock options under APB No. 25 and generally requires companies to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards.
The Company is adopting SFAS 123(R) effective July 1, 2005 using the modified prospective method. The impact of adopting SFAS 123(R) will be consistent with the impact in the proforma disclosure presented above.
2. Acquisitions
Labcaire Systems, Ltd.
In June 1992, the Company acquired an 81.4% interest in Labcaire, a U.K. company, for $545,169. The total acquisition cost exceeded the fair value of the net assets acquired by $241,299, which is being treated as goodwill.
The balance of the capital stock of Labcaire was owned by three executives and one retired executive of Labcaire who had the right, under the original purchase agreement (the "Labcaire Agreement"), to require the Company to repurchase such shares at a price equal to its pro rata share of 8.5 times Labcaire's earnings before interest, taxes and management charges for the preceding fiscal year.
In June 1996, the Labcaire Agreement was amended and each of the four directors agreed to sell one-seventh of his total holdings of Labcaire shares to the Company in each of the next seven consecutive years, commencing with fiscal year 1996. Under the Labcaire Agreement, the Company repurchased such
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
shares at a price equal to one-seventh of each executive's prorata share of 8.5 times Labcaire's earnings before interest, taxes, and management charges for the preceding fiscal year, which amount is being treated as goodwill. Total goodwill associated with Labcaire is $1,214,808 of which $1,063,294 remains at June 30, 2005. The Company now owns 100% of Labcaire.
Fibra Sonics, Inc.
On February 8, 2001, the Company acquired certain assets and liabilities of Fibra Sonics, a Chicago-based, privately-held producer and marketer of ultrasonic medical devices for approximately $1,900,000. Subsequent to the acquisition, the Company relocated the assets of Fibra Sonics to the Company's Farmingdale facility. The acquisition was accounted for under the purchase method of accounting. Accordingly, the acquired assets and liabilities were initially recorded at their estimated fair values at the date of acquisition. The excess of the cost of the acquisition ($1,723,208 plus acquisition costs of $144,696, which includes a broker fee of $100,716) over the fair value of net assets acquired was $1,814,025 and is being treated as goodwill.
Sonic Technologies Laboratory Services
On October 12, 2000, Sonora acquired the assets of Sonic Technologies Laboratory Services ("Sonic"), an ultrasound acoustic measurement and testing laboratory for approximately $320,000. The assets of the Hatboro, Pennsylvania-based operations of privately-held Sonic were relocated to Sonora's facility in Longmont, Colorado. The acquisition was accounted for under the purchase method of accounting. Accordingly, acquired assets and liabilities have been recorded at their estimated fair values at the date of acquisition. The excess of the cost of the acquisition ($270,000 plus acquisition costs of $51,219, which includes a broker fee of $25,000) over the fair value of net assets acquired was $301,219 and is being treated as goodwill.
CraMar Technologies, Inc.
On July 27, 2000, Sonora acquired 100% of the assets of CraMar Technologies, Inc. ("CraMar"), an ultrasound equipment servicer for approximately $311,000. The assets of the Colorado-based, privately-held operations of CraMar were relocated to Sonora's facility in Longmont, Colorado. The acquisition was accounted for under the purchase method of accounting. Accordingly, acquired assets have been recorded at their estimated fair value at the date of acquisition. The excess of the cost of the acquisition ($272,908 plus acquisition costs of $37,898, which includes a broker fee of $25,000) over the fair value of net assets acquired was $257,899 and is being treated as goodwill.
Sonora Medical Systems, Inc.
On November 16, 1999, the Company acquired a 51% interest in Sonora for approximately $1,400,000. Sonora authorized and issued new common stock for the 51% interest. Sonora utilized the proceeds of such sale to increase inventory and expand marketing, sales, and research and development efforts. An additional 4.7% was acquired from the principals of Sonora on February 25, 2000 for $208,000, bringing
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
the acquired interest to 55.7%. The principals of Sonora sold an additional 34.3% to Misonix on June 1, 2000 for approximately $1,407,000, bringing the acquired interest to 90%. Sonora, located in Longmont, Colorado, is an ISO 9001 certified refurbisher of high-performance ultrasound systems and replacement transducers for the medical diagnostic ultrasound industry. Sonora also offers a full range of aftermarket products and services such as its own ultrasound probes and transducers, and other services that can extend the useful life of its customers' ultrasound imaging systems beyond the usual five to seven years. The acquisition of Sonora was accounted for under the purchase method of accounting. Accordingly, results of operations for Sonora are included in the consolidated statements of income from the date of acquisition and acquired assets and liabilities have been recorded at their estimated fair values at the date of acquisition. The excess of the cost of the acquisition ($2,957,000 plus acquisition costs of $101,000, which includes a broker fee of $72,000) over the fair value of net assets acquired was $1,622,845 and is being treated as goodwill.
Hearing Innovations, Inc.
On October 18, 1999, the Company and Hearing Innovations completed the agreement whereby the Company invested an additional $350,000 and cancelled notes receivable aggregating $400,000 in exchange for a 7% equity interest in Hearing Innovations and representation on its Board of Directors. Warrants to acquire 388,680 shares of Hearing Innovations common stock were also part of the agreement. Upon exercise of the warrants, the Company had the right to manufacture Hearing Innovations' ultrasonic products and also had the right to create a joint venture with Hearing Innovations for the marketing and sale of its ultrasonic tinnitus masker device. As of the date of the acquisition, the cost of the investment was $784,000 ($750,000 plus acquisition costs of $34,000). The Company's portion of the net losses of Hearing Innovations were recorded since the date of acquisition in accordance with the equity method of accounting. During fiscal 2001, the Company evaluated the investment with respect to the financial performance and the achievement of specific targets and goals and determined that the equity investment was impaired and therefore the Company recorded an impairment loss in the amount of $579,069.
On September 11, 2000, the Company loaned $108,000 to Hearing Innovations, which together with the then-outstanding loans aggregating $192,000 (with accrued interest) was exchanged for a $300,000, 7% Secured Convertible Debenture due August 27, 2002 and extended to November 30, 2003 (the "Hearing Debenture"). The Company recorded an allowance against the entire balance of principal and accrued interest due in fiscal 2001. The related expense has been included in loss on impairment of investment in the accompanying consolidated statement of income. The Company believed the Hearing Debenture was impaired since the Company does not anticipate such Debenture to be satisfied in accordance with the contractual terms of the loan agreement.
During fiscal 2001, the Company entered into fourteen loan agreements whereby Hearing Innovations was required to pay the Company an aggregate amount of $397,678 due May 30, 2002. The Company recorded an allowance against the entire balance due in fiscal 2001. The related expense has been included in loss on impairment of investment in the accompanying consolidated statement of income. The Company believed the loans were impaired since the Company did not anticipate that these loans would be paid in accordance with the contractual terms of the loan agreements.
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
During fiscal 2002, the Company entered into fifteen loan agreements whereby Hearing Innovations was required to pay the Company an aggregate amount of $322,679 due May 30, 2002, extended to November 30, 2003, and $151,230 due November 30, 2003. The Company recorded an allowance against the entire balance due in fiscal 2002. The related expense has been included in loss on impairment of loans in the accompanying consolidated statement of income. The Company believed the loans and related interest were impaired since the Company did not anticipate that these loans would be paid in accordance with the contractual terms of the loan agreements.
During fiscal 2003, the Company entered into sixteen loan agreements whereby Hearing Innovations is required to pay the Company an aggregate amount of $274,991 due November 30, 2003. The Company recorded an allowance against the entire balance of $274,991 for the above loans as well as accrued interest of $23,241 during fiscal 2003. The related expense has been included in loss on impairment of Hearing Innovations in the accompanying consolidated statement of income. The Company believed the loans and related interest were impaired since the Company did not anticipate that these loans would be paid in accordance with the contractual terms of the loan agreements. In November 2002, the Company signed a management agreement with Hearing Innovations whereby the Company earns $17,000 per month for those services. These amounts have been fully reserved by the Company, as the collectibility of these amounts was uncertain.
During fiscal 2004, the Company entered into eight loan agreements whereby Hearing Innovations is required to pay the Company an aggregate amount of $199,255, of which $455 was in the fourth quarter and was eliminated in consolidation. The Company recorded an allowance against amounts loaned prior to April 1, 2004, which totaled $198,800. The related expense has been included in loss on impairment of Hearing Innovations in the accompanying consolidated statements of income. The Company believed the loans and related interest were impaired since the Company did not anticipate that these loans would be paid in accordance with the contractual terms of the loan agreements and Hearing Innovations has no predictable cash flows from its product revenue.
The Company previously made the decision not to continue funding Hearing Innovations' operations, however, during fiscal 2004, the Company loaned Hearing Innovations $199,255 to enable Hearing Innovations to reduce a substantial portion of its long-term debt to certain third parties. The Company continued to believe that Hearing Innovations' technology could provide a benefit to patients but the products require more improvement and market development. All equity investments and debt in Hearing Innovations were fully reserved and had a zero basis.
In connection with the adoption of FIN 46, the Company consolidated Hearing Innovations in its March 31, 2004 balance sheet as the entity was determined to be a variable interest entity and the Company is its primary beneficiary. The Company elected to record the adoption of FIN 46 as a cumulative effect of an accounting change. Consolidating Hearing Innovations did not have a material impact on the Company's consolidated results of operations or financial condition.
On July 14, 2004, Hearing Innovations sent all shareholders and creditors a plan for reorganization and disclosure statement. The Company funded Hearing Innovations up to $150,000 for the reorganization
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
plan. Hearing Innovations filed for relief under Chapter 11 of the U.S. Bankruptcy Code in September 2004. The petition was approved and the Company now owns 100% of the outstanding common stock in Hearing Innovations.
Focus Surgery, Inc.
On May 3, 1999, the Company invested $3,050,000 to obtain an approximately 20% equity interest in Focus, a privately-held technology company and representation on its Board of Directors. The agreement provides for a series of development and manufacturing agreements whereby the Company would upgrade existing Focus products and create new products based on high intensity focused ultrasound ("HIFU") technology for the non-invasive treatment of tissue for certain medical applications. The Company has the optional rights to market and sell several other high potential HIFU applications for the breast, liver, and kidney for both benign and cancerous tumors. The Company's portion of the net losses of Focus were recorded since the date of acquisition. During fiscal 2001, the Company evaluated the investment with respect to the financial performance and the achievement of specific targets and goals and determined that the equity investment was impaired and therefore the Company recorded an impairment loss in the amount of $1,916,398. The net carrying value of the investment at June 30, 2005 and 2004 is $0. Under the equity method of accounting, if the equity investment was ever deemed not impaired, the Company would have to record its share of Focus' losses since 2001 before the Company can record income from Focus. Focus' unaudited net loss in fiscal year 2005 was $(209,507). The Company will start to record its share of Focus' income when Focus' income is greater than the losses from fiscal year 2002 through fiscal 2005, which aggregated to approximately $1,900,000.
On November 7, 2000, the Company purchased a $300,000, 5.1% Secured Cumulative Convertible Debenture from Focus, due December 22, 2002 (the "5.1% Focus Debenture"). The 5.1% Focus Debenture is convertible into 250 shares of Focus preferred stock at the option of the Company at any time after December 22, 2000 for two years at a conversion price of $1,200 per share, if the 5.1% Focus Debenture is not retired by Focus. Interest accrues and is payable at maturity or is convertible on the same terms as the 5.1% Focus Debenture's principal amount. The 5.1% Focus Debenture is secured by a lien on all of Focus' right, title and interest in accounts receivable, inventory, property, plant and equipment and processes of specified products whether now existing or hereafter arising after the date of the 5.1% Focus Debenture. The Company recorded an allowance against the entire balance of principal and accrued interest due in fiscal 2001. The related expense has been included in loss on impairment of investment in the accompanying consolidated statement of income. The 5.1% Focus Debenture is currently in default and the Company is negotiating an extended due date and conversion right. The Company believes the loan is impaired since the Company does not anticipate the 5.1% Focus Debenture to be satisfied in accordance with the contractual terms of the loan agreement.
On April 12, 2001, the Company purchased a $300,000, 6% Secured Cumulative Convertible Debenture from Focus, due May 25, 2003 (the "6% Focus Debenture"). The 6% Focus Debenture is convertible into 250 shares of Focus preferred stock at the option of the Company at any time after May 25, 2003 for two years at a conversion price of $1,200 per share, if the 6% Focus Debenture is not retired by Focus. Interest accrues and is payable at maturity, or is convertible on the same terms as the 6% Focus Debenture's principal amount. The 6% Focus Debenture is secured by a lien on all of Focus' right, title and interest
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Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
in accounts receivable, inventory, property, plant and equipment and processes of specified products whether now existing or hereafter arising after the date of the 6% Focus Debenture. The Company recorded an allowance against the entire balance of principal and accrued interest due in fiscal 2001. The related expense has been included in loss on impairment of investment in the accompanying consolidated statement of income. The 6% Focus Debenture is currently in default and the Company is negotiating an extended due date and conversion right. The Company believes the loan is impaired since the Company does not anticipate the 6% Focus Debenture to be satisfied in accordance with the contractual terms of the loan agreement.
On July 31, 2001, the Company purchased a second $300,000, 6% Secured Cumulative Convertible Debenture from Focus, due May 25, 2003 (the "Focus Debenture"). The Focus Debenture is convertible into 250 shares of Focus preferred stock at the option of the Company at any time after the due date for two years at a conversion price of $1,200 per share. The Focus Debenture also contains warrants, deemed nominal in value, to purchase an additional 125 shares to be exercised at the option of the Company. Interest accrues and is payable at maturity or is convertible on the same terms as the Focus Debenture's principal amount. The Focus Debenture is secured by a lien on all of Focus' right, title and interest in accounts receivable, inventory, property, plant and equipment and processes of specified products whether now existing or arising after the date of the Focus Debenture. The Company recorded an allowance against the entire balance of principal and accrued interest due in fiscal 2002. The related expense has been included in loss on impairment of investment in the accompanying consolidated statement of income. The Focus Debenture is currently in default and the Company is negotiating an extended due date and conversion right. The Company believes the loan is impaired since the Company does not anticipate the Focus Debenture to be satisfied in accordance with the contractual terms of the loan agreement.
During fiscal 2002, the Company entered into a loan agreement whereby Focus borrowed $60,000 from the Company. This loan matured on May 30, 2002 and was extended to December 31, 2002. The loan bears interest at 6% per annum and contains warrants, which are deemed nominal in value, to acquire additional shares. The loan is secured by a lien on all of Focus' right, title and interest in accounts receivable, inventory, property, plant and equipment and processes of specified products whether now existing or arising after the date of the loan. The Company recorded an allowance against the entire balance at June 30, 2004 and 2003. The related expense has been included in loss on impairment of loans in the accompanying consolidated statement of income. The loan is currently in default and the Company is negotiating an extended due date. The Company believes that this loan is impaired since the Company does not anticipate that this loan will be paid in accordance with the contractual terms of the loan agreement.
In May 2004, the Company's ownership was reduced to 13% due to additional preferred stock issued by Focus.
If the Company were to convert the 5.1% Focus Debenture, 6% Focus Debenture and Focus Debenture, and exercise all warrants, the Company would hold an interest in Focus of approximately 18%.
The Company has subcontracted Focus to perform research and development activities for which the Company paid $452,000, $155,000 and $100,000 to Focus in fiscal 2005, 2004 and 2003, respectively, which
F-19
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
is recorded as research and development expenses in the accompanying statement of operations. During fiscal 2004, Focus entered into an exclusive agreement with the Company to distribute the Sonoblate® 500 in the European market. The Company has purchased approximately $715,000, and $199,000 of product from Focus during fiscal 2005 and 2004, respectively. No purchases were made in fiscal 2003. Total sales to Focus were approximately $702,000, $1,151,000 and $379,000 for the fiscal years ended June 30, 2005, 2004 and 2003, respectively. Trade accounts receivable due from Focus at June 30, 2005 and 2004 were approximately $188,000 and $448,000, respectively. Accounts payable to Focus Surgery totaled $280,000 at June 30, 2005 and zero at June 30, 2004.
F-20
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
Summarized unaudited financial information of Focus as of and for the year ended June 30, 2005 and 2004 are as follows:
Condensed Statement of Operations Information
| | | | | | | | | | |
| | | 2005 | | 2004 |
| Sales | | $ | 3,006,000 | | | $ | 3,298,000 | |
| Gross profit | | | 1,991,000 | | | | 2,115,000 | |
| Net (loss) | | | (188,000 | ) | | | (34,000 | ) |
|
Condensed Balance Sheet Information
| | | | | | | | | | |
| | | 2005 | | 2004 |
| Current assets | | $ | 853,000 | | | $ | 890,000 | |
| Non-current assets | | | 412,000 | | | | 434,000 | |
| Current liabilities | | | 3,308,000 | | | | 1,330,000 | |
| Non-current liabilities | | | 1,791,000 | | | | 3,640,000 | |
| Preferred stock | | | 4,039,000 | | | | 4,039,000 | |
| Common stockholders' deficit | | | (7,873,000 | ) | | | (7,685,000 | ) |
|
3. Inventories
Inventories are summarized as follows:
| | | | | | | | | | |
| | | June 30, |
| | | 2005 | | 2004 |
| Raw materials | | $ | 5,303,581 | | | $ | 4,397,472 | |
| Work-in-process | | | 1,643,835 | | | | 1,733,577 | |
| Finished goods | | | 2,833,085 | | | | 3,463,438 | |
| | | $ | 9,780,501 | | | $ | 9,594,487 | |
|
F-21
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
4. Property, Plant and Equipment
Property, plant and equipment consist of the following:
| | | | | | | | | | |
| | | June 30, |
| | | 2005 | | 2004 |
| Buildings | | $ | 1,974,366 | | | $ | 1,982,896 | |
| Machinery and equipment | | | 3,404,385 | | | | 3,145,102 | |
| Furniture and fixtures | | | 1,401,301 | | | | 937,315 | |
| Automobiles | | | 1,114,408 | | | | 1,005,244 | |
| Leasehold improvements | | | 396,930 | | | | 339,191 | |
| Demo/consignment inventory | | | 2,965,112 | | | | 1,815,245 | |
| | | | 11,256,502 | | | | 9,224,993 | |
| Less: accumulated depreciation and amortization | | | 4,846,667 | | | | 3,981,988 | |
| | | $ | 6,409,835 | | | $ | 5,243,005 | |
|
Included in machinery and equipment and furniture and fixtures at June 30, 2005 and 2004 are approximately $171,000 and $117,000, respectively, of data processing equipment and telephone equipment under capital leases with related accumulated amortization of approximately $68,000 and $50,000, respectively. Also, included in automobiles are approximately $798,000 and $676,000, respectively, under capital leases with accumulated amortization of approximately $196,000 and $194,000, respectively. The Company leased approximately $454,000, $321,000 and $364,000 of automobiles and equipment under capital lease arrangements during the years ended June 30, 2005, 2004 and 2003, respectively.
Depreciation and amortization of property, plant and equipment amounted to $795,288, $699,811 and $663,057 for the years ended June 30, 2005, 2004 and 2003, respectively.
5. Revolving Credit Facilities
Labcaire has a debt purchase agreement with Lloyds TSB Commercial Finance. The amount of this facility bears interest at the bank's base rate (5.25% and 4.00% at June 30, 2005 and 2004, respectively) plus 1.75% and a service charge of ..15% of sales invoice value and fluctuates based upon the outstanding United Kingdom and European receivables. The agreement expires on June 30, 2006 and covers all United Kingdom and European sales. At June 30, 2005, the balance outstanding under this overdraft facility was $1,883,193 and Labcaire received a waiver of all financial covenants that were not in compliance for fiscal 2005.
The Company renewed and increased its revolving credit facility with Bank of America in February, 2005 from $5 million to $6 million to support future working capital needs. The revolving credit facility has interest rate options ranging from Libor plus 1.0% per annum to prime rate plus .25% per annum. This facility is secured by the assets of the Company. The terms provide for the repayment of the debt in full on its maturity date. The Company has $6,000,000 available on its line of credit and is in compliance with all covenants.
F-22
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
6. Debt
On January 22, 1999, Labcaire purchased a manufacturing facility in North Somerset, England to house its operations. The purchase price was approximately $2,100,000 and was partially financed with a mortgage loan of $1,283,256. On July 1, 2002, Labcaire transferred its mortgage loan on their facility to Lloyds TSB from HSBC Bank plc. The property loan of £670,000 is repayable over 180 months with interest at base rate (4.50% at June 30, 2005) plus 1.75% and is collateralized by a security interest in certain assets of Labcaire. As of June 30, 2005 and 2004, $1,050,108 and $1,110,609 were outstanding on this loan, respectively.
At June 30, 2005, future principal maturities of long-term debt are as follows:
| | | | | | |
| 2006 | | $ | 54,057 | |
| 2007 | | | 57,754 | |
| 2008 | | | 60,641 | |
| 2009 | | | 62,807 | |
| 2010 | | | 64,973 | |
| Thereafter | | | 749,876 | |
| | | $ | 1,050,108 | |
|
F-23
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
7. Accrued Expenses and Other Current Liabilities
The following summarizes accrued expenses and other current liabilities:
| | | | | | | | | | |
| | | June 30, |
| | | 2005 | | 2004 |
| Accrued payroll and vacation | | $ | 356,850 | | | $ | 296,628 | |
| Accrued VAT and sales tax | | | 246,170 | | | | 155,180 | |
| Accrued commissions and bonuses | | | 255,400 | | | | 387,078 | |
| Customer deposits and current deferred contracts | | | 1,121,741 | | | | 808,414 | |
| Accrued professional and legal fees | | | 226,235 | | | | 176,426 | |
| Litigation expense | | | 419,000 | | | | — | |
| Other | | | 275,851 | | | | 33,371 | |
| | | $ | 2,901,247 | | | $ | 1,857,097 | |
|
8. Leases
Misonix has entered into several noncancellable operating leases for the rental of certain office space, equipment and automobiles expiring in various years through 2011. The principal leases for office space provide for a monthly rental amount of approximately $61,000. The Company also leases certain office equipment and automobiles under capital leases expiring through fiscal 2009.
The following is a schedule of future minimum lease payments, by year and in the aggregate, under capital and operating leases with initial or remaining terms of one year or more at June 30, 2005:
| | | | | | | | | | |
| | | Capital
Leases | | Operating
Leases |
| 2006 | | $ | 362,564 | | | $ | 764,395 | |
| 2007 | | | 220,861 | | | | 796,796 | |
| 2008 | | | 73,619 | | | | 822,130 | |
| 2009 | | | — | | | | 831,261 | |
| 2010 | | | — | | | | 859,356 | |
| Thereafter | | | — | | | | 494,938 | |
| Total minimum lease payments | | $ | 657,044 | | | $ | 4,568,876 | |
| Amounts representing interest | | | (90,680 | ) | | | | |
| Present value of net minimum lease payments | | | | | | | | |
| (including current portion of $322,091) | | $ | 566,364 | | | | | |
|
Certain of the leases provide for renewal options and the payment of real estate taxes and other occupancy costs. Rent expense for all operating leases was approximately $882,000, $788,000 and $749,000 for the years ended June 30, 2005, 2004 and 2003, respectively.
F-24
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
9. Stock Based Compensation Plans
In September 1991, in order to attract and retain persons necessary for the success of the Company, the Company adopted a stock option plan (the "1991 Plan") which covers up to 375,000 shares of Common Stock. Pursuant to the 1991 Plan, officers, Directors, consultants and key employees of the Company are eligible to receive incentive and/or non-incentive stock options. At June 30, 2005, options to purchase 30,000 shares were outstanding under the 1991 Plan at an exercise price of $7.38 per share with a vesting period of two years, options to purchase 327,750 shares had been exercised and options to purchase 47,250 shares have been forfeited (of which options to purchase 30,000 shares have been reissued).
In March 1996, the Board of Directors adopted and, in February 1997, the shareholders approved the 1996 Employee Incentive Stock Option Plan covering an aggregate of 450,000 shares (the "1996 Plan") and the 1996 Non-Employee Director Stock Option Plan (the "1996 Directors Plan") covering an aggregate of 1,125,000 shares of Common Stock. At June 30, 2005, options to purchase 302,276 shares were outstanding at exercise prices ranging from $3.07 to $18.50 per share with a vesting period of immediate to two years under the 1996 Plan and options to acquire 235,000 shares were outstanding at exercise prices ranging from $.73 to $7.10 per share with a vesting period of immediate to three years under the 1996 Directors Plan. At June 30, 2005, options to purchase 136,295 shares under the 1996 Plan have been exercised and 183,374 shares have been forfeited (of which options to purchase 171,945 shares have been reissued). At June 30, 2005, options to purchase 733,500 shares under the 1996 Directors Plan have been exercised, options to purchase 90,000 shares have been forfeited (of which none have been reissued) and 66,500 shares remain available for future granting.
In October 1998, the Board of Directors adopted and, in January 1999, the shareholders approved the 1998 Employee Stock Option Plan (the "1998 Plan") covering an aggregate of 500,000 shares of Common Stock. At June 30, 2005, options to purchase 401,675 shares were outstanding under the 1998 Plan at exercise prices ranging from $3.07 to $7.31 per share with a vesting period of immediate to two years. At June 30, 2005, options to purchase 51,348 shares under the 1998 Plan have been exercised and options to purchase 75,902 shares under the 1998 Plan have been forfeited (of which options to purchase 28,925 shares have been reissued).
In October 2000, the Board of Directors adopted and, in February 2001, the shareholders approved the 2001 Employee Stock Option Plan (the "2001 Plan") covering an aggregate of 1,000,000 shares of Common Stock. At June 30, 2005, options to purchase 939,124 shares were outstanding under the 2001 Plan at exercise prices ranging from $4.66 to $8.00 per share with a vesting period of one to three years. At June 30, 2005, options to purchase 56,389 shares under the 2001 Plan have been exercised and options to purchase 93,383 shares under the 2001 Plan have been forfeited (of which options to purchase 88,896 shares have been reissued).
The selection of participants, allotments of shares and determination of price and other conditions relating to options are determined by the Board of Directors or a committee thereof, depending on the Plan, and in accordance with Rule 4350(c) of the Qualitative Listing Requirements of the Nasdaq Stock Market. Incentive stock options granted under the plans are exercisable for a period of up to ten years from the date of grant at an exercise price which is not less than the fair market value of the Common Stock on the date of the grant, except that the term of an incentive stock option granted under the plans
F-25
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
to a shareholder owning more than 10% of the outstanding Common Stock may not exceed five years and its exercise price may not be less than 110% of the fair market value of the Common Stock on the date of grant. Options shall become exercisable at such time and in such installments as provided in the terms of each individual option agreement.
F-26
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
The following table summarizes information about stock options outstanding at June 30, 2005, 2004 and 2003:
| | | | | | | | | | |
| | | Options |
| | | Shares | | Weighted Avg.
Exercise Price |
| June 30, 2002 | | | 1,934,213 | | | $ | 6.64 | |
| Granted | | | 353,000 | | | | 4.94 | |
| Exercised | | | (553,500 | ) | | | .73 | |
| Forfeited | | | (124,202 | ) | | | 5.57 | |
| June 30, 2003 | | | 1,609,511 | | | $ | 5.65 | |
| Granted | | | 295,000 | | | | 4.73 | |
| Exercised | | | (82,588 | ) | | | 4.90 | |
| Forfeited | | | (31,683 | ) | | | 5.91 | |
| June 30, 2004 | | | 1,790,240 | | | $ | 5.53 | |
| Granted | | | 293,500 | | | | 6.37 | |
| Exercised | | | (86,499 | ) | | | 4.04 | |
| Forfeited | | | (89,166 | ) | | | 6.75 | |
| June 30, 2005 | | | 1,908,075 | | | $ | 5.66 | |
|
The following table summarizes information about stock options outstanding at June 30, 2005:
| | | | | | | | | | | | | | | | | | | | | | |
| | | Options Outstanding | | Options Exercisable |
| | | | | Weighted Average | | | | Weighted
Average
Exercise
Price |
Range of
Exercise Price | | Number | | Contractual
Life (Yrs) | | Exercise
Price | | Number | |
| $.73 | | | 75,000 | | | | 2 | | | $ | ..73 | | | | 75,000 | | | $ | .73 | |
| $3.07 - 4.99 | | | 213,000 | | | | 8 | | | $ | 4.30 | | | | 171,333 | | | $ | 4.20 | |
| $5.06 - - 8.00 | | | 1,595,075 | | | | 7 | | | $ | 6.25 | | | | 1,561,242 | | | $ | 6.21 | |
| $12.33 - - 18.50 | | | 25,000 | | | | 2 | | | $ | 14.80 | | | | 25,000 | | | $ | 14.80 | |
| | | | 1,908,075 | | | | 7 | | | $ | 5.66 | | | | 1,832,575 | | | $ | 5.66 | |
|
As of June 30, 2005 and 2004, 1,908,075 and 1,790,240 shares are reserved for issuance under outstanding options and 219,393 and 423,727 shares are reserved for the granting of additional options, respectively. All outstanding options expire between July 2006 and January 2014 and vest immediately or over periods of up to three years.
During fiscal year 2003, the Company repurchased 3,500 shares of its Common Stock in the open market at an average price of $2.99 per share for an aggregate amount of $10,450. At June 30, 2003, the Company had purchased a total of 77,800 shares at an average price of $5.30 per share for an aggregate amount of $412,424.
F-27
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
10. Commitments and Contingencies
Legal Proceedings
A jury in the District Court of Boulder County, Colorado has returned a verdict against Sonora Medical Systems in the amount of $419,000 which was recorded by the Company during the fourth quarter of fiscal 2005. The case involved royalties claimed on recoating of transesophogeal probes, which is a process by Sonora. Approximately 80% of the judgment was based on the jury estimate of royalties for potential sales of the product in the future. Sonora has moved for judgment notwithstanding the verdict based on, among other things, the award of damages for future royalties. Sonora has also moved for a new trial in the case.
The Company is a defendant in claims and lawsuits arising in the ordinary course of business. The Company believes that it has meritorious defenses to such claims and lawsuits and is vigorously contesting them. Although the outcome of litigation cannot be predicted with certainty, the Company believes that these actions will not have a material adverse effect on the Company's consolidated financial position or results of operations.
Employment Agreement
In October 2004, the Company entered into an employment agreement with its President and Chief Executive Officer which expires on October 31, 2005 and is automatically renewable for one-year periods unless notice is given by the Company or Mr. McManus that it or he declines to renew the agreement. This agreement provides for an annual base compensation of $275,000 and a Company provided automobile. The agreement also provides for a discretionary bonus based on the Company's pre-tax operating earnings, based on a calendar year.
11. Business Segments
The Company operates in two business segments which are organized by product types: laboratory and scientific products and medical devices. Laboratory and scientific products include the Sonicator ultrasonic liquid processor, Aura ductless fume enclosure, the Labcaire Autoscope and Guardian endoscope disinfectant systems and the Mystaire wet scrubber. Medical devices include the Auto Sonix ultrasonic cutting and coagulatory system, refurbishing revenues of high-performance ultrasound systems and replacement transducers for the medical diagnostic ultrasound industry, ultrasonic lithotriptor, ultrasonic neuroaspirator (used for neurosurgery) and soft tissue aspirator (used primarily for the cosmetic surgery market). The Company evaluates the performance of the segments based upon income from operations less general and administrative expenses and litigation (recovery) settlement expenses, which are maintained at the corporate headquarters (corporate). The Company does not allocate assets by segment as such information is not provided to the chief operating decision maker. Summarized financial information for each of the segments for the years ended June 30, 2005, 2004 and 2003 are as follows:
F-28
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
For the year ended June 30, 2005:
| | | | | | | | | | | | | | | | | | |
| | | Medical
Devices | | Laboratory and
Scientific Products | | (a)
Corporated and
Unallocated | | Total |
| Net sales | | $ | 24,842,549 | | | $ | 21,064,035 | | | $ | — | | | $ | 45,906,584 | |
| Cost of goods sold | | | 13,787,186 | | | | 13,082,050 | | | | — | | | | 26,869,236 | |
| Gross profit | | | 11,055,363 | | | | 7,981,985 | | | | — | | | | 19,037,348 | |
| Selling expenses | | | 3,164,535 | | | | 2,946,181 | | | | — | | | | 6,110,716 | |
| Research and development | | | 2,437,466 | | | | 1,048,597 | | | | — | | | | 3,486,063 | |
| Total operating expenses | | | 5,602,001 | | | | 3,994,778 | | | | _8,881,228 | | | | 18,478,007 | |
| Income from operations | | $ | 5,453,362 | | | $ | 3,987,207 | | | $ | (8,881,228 | ) | | $ | 559,341 | |
|
(a) Amount represents general and administrative and litigation expenses.
F-29
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
For the year ended June 30, 2004:
| | | | | | | | | | | | | | | | | | |
| | | Medical
Devices | | Laboratory and
Scientific Products | | (a)
Corporated and
Unallocated | | Total |
| Net sales | | $ | 21,350,846 | | | $ | 17,708,220 | | | $ | — | | | $ | 39,059,066 | |
| Cost of goods sold | | | 11,879,237 | | | | 10,663,226 | | | | — | | | | 22,542,463 | |
| Gross profit | | | 9,471,609 | | | | 7,044,994 | | | | — | | | | 16,516,603 | |
| Selling expenses | | | 2,150,482 | | | | 2,511,524 | | | | — | | | | 4,662,006 | |
| Research and development | | | 1,580,909 | | | | 856,843 | | | | — | | | | 2,437,752 | |
| Total operating expenses | | | 3,731,391 | | | | 3,368,367 | | | | 7,633,930 | | | | 14,733,688 | |
| Income from operations | | $ | 5,740,218 | | | $ | 3,676,627 | | | $ | (7,633,930 | ) | | $ | 1,782,915 | |
|
(a) Amount represents general and administrative expenses.
For the year ended June 30, 2003:
| | | | | | | | | | | | | | | | | | |
| | | Medical
Devices | | Laboratory and
Scientific Products | | (a)
Corporated and
Unallocated | | Total |
| Net sales | | $ | 17,504,978 | | | $ | 17,353,773 | | | $ | — | | | $ | 34,858,751 | |
| Cost of goods sold | | | 9,725,617 | | | | 10,628,941 | | | | — | | | | 20,354,558 | |
| Gross profit | | | 7,779,361 | | | | 6,724,832 | | | | — | | | | 14,504,193 | |
| Selling expenses | | | 1,406,543 | | | | 2,725,534 | | | | — | | | | 4,132,077 | |
| Research and development | | | 1,400,336 | | | | 708,976 | | | | — | | | | 2,109,312 | |
| Total operating expenses | | | 2,806,879 | | | | 3,434,510 | | | | 6,678,653 | | | | 12,920,042 | |
| Income from operations | | $ | 4,972,482 | | | $ | 3,290,322 | | | $ | (6,678,653 | ) | | $ | 1,584,151 | |
|
(a) Amount represents general and administrative and litigation settlement (recovery) expenses.
There are two major customers for medical devices. Sales to USS were approximately $5,778,000, $7,198,000 and $6,205,000 for the years ended June 30, 2005, 2004 and 2003, respectively. Sales to Byron Medical were approximately $2,375,000, $1,732,000 and $536,000 during the fiscal years ended June 30, 2005, 2004 and 2003, respectively. There were no significant concentrations of sales or accounts receivable for laboratory and scientific products for the years ended June 30, 2005, 2004 and 2003, respectively.
The Company's revenues are generated from various geographic regions. The following is an analysis of net sales by geographic region:
F-30
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
| | | | | | | | | | | | | | |
| | | Year ended June 30, |
| | | 2005 | | 2004 | | 2003 |
| United States | | $ | 29,054,094 | | | $ | 25,261,159 | | | $ | 22,603,227 | |
| Canada | | | 843,777 | | | | 565,872 | | | | 446,307 | |
| Mexico | | | 21,101 | | | | 229,603 | | | | 6,230 | |
| United Kingdom | | | 11,293,506 | | | | 9,509,301 | | | | 8,767,304 | |
| Europe | | | 2,823,169 | | | | 1,502,776 | | | | 1,357,245 | |
| Asia | | | 899,274 | | | | 1,037,553 | | | | 1,193,294 | |
| Middle East | | | 279,514 | | | | 325,365 | | | | 139,501 | |
| Other | | | 692,149 | | | | 627,437 | | | | 345,643 | |
| | | $ | 45,906,584 | | | $ | 39,059,066 | | | $ | 34,858,751 | |
|
Total assets, by geographic area, at June 30, are as follows:
| | | | | | | | | | |
| | | 2005 | | 2004 |
| United States | | $ | 26,750,834 | | | $ | 24,827,089 | |
| United Kingdom | | | 11,335,102 | | | | 9,414,023 | |
| | | $ | 38,085,936 | | | $ | 34,241,112 | |
|
12. Income Taxes
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities are presented below:
F-31
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
| | | | | | | | | | |
| | | 2005 | | 2004 |
| Deferred tax liabilities: | | | | | | | | |
| Depreciation and amortization | | $ | (270,884 | ) | | $ | (10,226 | ) |
| Total deferred tax liabilities | | | (270,884 | ) | | | (10,226 | ) |
| Deferred tax assets: | | | | | | | | |
| Bad debt reserves | | | 129,297 | | | | 116,508 | |
| Inventory valuation | | | 666,019 | | | | 503,809 | |
| License fee income | | | 106,665 | | | | 116,147 | |
| Investments | | | 2,587,622 | | | | 2,563,292 | |
| Non-cash compensation charge | | | 183,105 | | | | 183,105 | |
| Litigation | | | 150,840 | | | | — | |
| Net state loss carry forward | | | 159,962 | | | | 159,962 | |
| Depreciation | | | — | | | | 8,213 | |
| Other | | | 18,269 | | | | 25,065 | |
| Total deferred tax assets | | | 4,001,779 | | | | 3,676,101 | |
| Valuation allowance | | | (2,792,584 | ) | | | (2,608,293 | ) |
| Net deferred tax asset | | $ | 938,311 | | | $ | 1,057,582 | |
| Recorded as: | | | | | | | | |
| Current deferred tax asset | | $ | 964,426 | | | $ | 645,381 | |
| Non-current deferred tax asset | | | 244,769 | | | | 412,201 | |
| Non-current deferred tax liability | | | (270,884 | ) | | | — | |
| | | $ | 938,311 | | | $ | 1,057,582 | |
|
As of June 30, 2005, the valuation allowance was determined by estimating the recoverability of the deferred tax assets. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. In making this assessment, the ultimate realization of deferred tax assets is dependent upon the generation of future taxable income and tax planning strategies in making this assessment. Based on the level of historical income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deductible differences, net of the existing valuation allowances at June 30, 2005. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carryforward periods are not realized.
At June 30, 2005, the Company had a net operating loss carryforward ("NOL") of approximately $4,300,000 available to reduce future New York state taxable income. This NOL begins to expire in fiscal year 2022.
In connection with the loss on impairment of equity investments, which included the carrying value of the investments and related notes and debentures, the Company recorded a deferred tax asset in the amount of $2,587,622 and $2,563,292 at June 30, 2005 and 2004, respectively. The Company recorded a full valuation allowance against the asset in accordance with the provisions of SFAS No. 109. Based upon the
F-32
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
capital nature of the deferred tax asset and the Company's projections for future capital gains in which the deferred tax asset would be deductible, management did not deem it more likely than not that the asset would be recoverable at June 30, 2005 and 2004.
During the fourth quarter of fiscal 2003, the Company recorded a valuation allowance of $96,642 against the deferred tax asset related to the non-cash compensation charge due to the recent decline in the Company's stock price. During the fourth quarter of fiscal 2004, the Company reduced the valuation allowance by $51,641 due to the recent increase in the Company's stock price leaving a valuation allowance of $45,001. With this valuation, management believes that it will generate taxable income sufficient to realize the tax benefit associated with this future deductible temporary difference.
Significant components of the income tax expense (benefit) attributable to operations for the years ended June 30 are as follows:
| | | | | | | | | | | | | | |
| | | 2005 | | 2004 | | 2003 |
| Current: | | | | | | | | | | | | |
| Federal | | $ | 185,410 | | | $ | 801,297 | | | $ | — | |
| State | | | 46,000 | | | | 27,635 | | | | 15,284 | |
| Foreign | | | (57,942 | ) | | | (42,964 | ) | | | 64,814 | |
| Total current | | $ | 173,468 | | | | 785,968 | | | | 80,098 | |
| Deferred: | | | | | | | | | | | | |
| Federal | | $ | 74,487 | | | | 206,307 | | | | 702,695 | |
| State | | | 21,006 | | | | 76,381 | | | | 102,999 | |
| Foreign | | | 23,778 | | | | — | | | | — | |
| Total deferred | | | 119,271 | | | | 282,688 | | | | 805,694 | |
| | | $ | 292,739 | | | $ | 1,068,656 | | | $ | 885,792 | |
|
The reconciliation of income tax expense (benefit) computed at the Federal statutory tax rates to income tax expense (benefit) for the periods ended June 30 is as follows:
| | | | | | | | | | | | | | |
| | | 2005 | | 2004 | | 2003 |
| Tax at Federal statutory rates | | $ | 422,135 | | | $ | 965,636 | | | $ | 638,129 | |
| State income taxes, net of Federal benefit | | | 30,360 | | | | 68,651 | | | | 23,098 | |
| Research credit | | | (116,000 | ) | | | — | | | | — | |
| Extraterritorial income exclusion | | | (61,540 | ) | | | — | | | | — | |
| Foreign taxes | | | (30,181 | ) | | | (20,760 | ) | | | (9,425 | ) |
| Valuation allowance | | | — | | | | 8,862 | | | | 218,305 | |
| Travel and entertainment | | | 6,971 | | | | 6,524 | | | | 4,140 | |
| Other | | | 40,994 | | | | 39,743 | | | | 11,545 | |
| | | $ | 292,739 | | | $ | 1,068,656 | | | $ | 885,792 | |
|
F-33
Misonix, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2005 and 2004
13. Licensing Agreements for Medical Technology
In October 1996, the Company entered into a License Agreement (the "USS License") with USS for a twenty-year period, covering the further development and commercial exploitation of the Company's medical technology relating to ultrasonic cutting, which uses high frequency sound waves to coagulate and divide tissue for both open and laproscopic surgery.
The USS License gives USS exclusive worldwide marketing and sales rights for this technology. The Company received $100,000 under the option agreement preceding the USS License. This amount was recorded into income in fiscal 1997. Under the USS License, the Company has received $475,000 in licensing fees (which are being recorded as income over the term of the USS License), plus royalties based upon net sales of such products. Total royalties from sales of this device were approximately $940,000 and $1,402,000 for the fiscal years ended June 30, 2005 and 2004, respectively. Also as part of the USS License, the Company was reimbursed for certain product development expenditures (as defined in the USS License). The amount of reimbursement was $20,000 for the year ended June 30, 2004. There was no reimbursement for the year ended June 30, 2003.
In June 2002, the Company entered into a ten-year worldwide, royalty-free, distribution agreement with Byron Medical, Inc. for the sale, marketing and distribution of the Lysonix 2000 soft tissue aspirator used for cosmetic surgery. This agreement is a standard agreement for such distribution in that it specifies the product to be distributed, the terms of the agreement and the price to be paid for product covered under the agreement.
14. Employee Profit Sharing Plan
The Company sponsors a retirement plan pursuant to Section 401(k) of the Internal Revenue Code of 1986, as amended, for all full time employees. Participants may contribute a percentage of compensation not to exceed the maximum allowed under the Code, which was $14,000 or $17,000 if the employee was over 50 years of age for the year ended June 30, 2005. The plan provides for a matching contribution by the Company of 10%-25% of annual eligible compensation contributed by the participants based on years of service, which amounted to $104,904, $90,785 and $63,777 for the years ended June 30, 2005, 2004 and 2003, respectively.
15. Subsequent Event
During July 2005, the Company retained ThinkEquity Partners LLC to advise and assist Misonix in identifying and evaluating strategic opportunities for its Laboratory and Scientific segment.
F-34
Schedule II
MISONIX, INC.
Valuation and Qualifying Accounts and Reserves
Years ended June 30, 2005, 2004 and 2003
| | | | | | | | | | | | | | | | | | |
Column A
Description | | Column B
Balance at
Beginning
of period | | Column C
Additions
(Recoveries)
Charged (Credited)
to cost and
expenses | | Column D
Additions
(deductions)–
describe | | Column E
Balance at
end of
period |
| | | | | | | | | | | | | | | | | |
Allowance for
doubtful accounts:
Year ended June 30: | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| 2005 | | $ | 457,016 | | | $ | 25,171 | | | $ | (76,189 | ) | | $ | 405,998 | |
| | | | | | | | | | | | | | | | | |
| 2004 | | $ | 644,157 | | | $ | (112,420 | ) | | $ | (74,721) | (A) | | $ | 457,016 | |
| | | | | | | | | | | | | | | | | |
| 2003 | | $ | 223,413 | | | $ | 409,952 | | | $ | 10,792 | | | $ | 644,157 | |
| | | | | | | | | | | | | | | | | |
Valuation allowance for deferred taxes:
Year ended June 30: | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| 2005 | | $ | 2,608,293 | | | $ | 184,291 | | | | — | | | $ | 2,792,584 | |
| | | | | | | | | | | | | | | | | |
| 2004 | | $ | 2,582,225 | | | $ | 77,709 | | | $ | (51,641) | (B) | | $ | 2,608,293 | |
| | | | | | | | | | | | | | | | | |
| 2003 | | $ | 2,363,920 | | | $ | 218,305 | | | | — | | | $ | 2,582,225 | |
| | | | | | | | | | | | | | | | | |
|
| |
| (A) | Reduction in allowance for doubtful accounts due to write-off of accounts receivable balance. |
| |
| (B) | Reduction in valuation allowance for deferred taxes with respect to non-cash compensation charge due to increase of the Company's stock price. |
F-35
